Tax haven no longer? Luxembourg resists change to lax regulations

Tax haven no longer? Luxembourg resists change to lax regulations

European Commission President Jose Manuel Barroso (L) with Luxembourg's Jean-Claude Juncker during the EU summit on Wednesday. Barroso has urged EU countries to support the full automatic exchange of earnings data.

Citizens of the Grand Duchy of Luxembourg are the world’s richest by some counts. The World Bank puts their output per head at $107,000, compared to just $50,000 for Americans.

However, that may not stay true for long.

European leaders are calling for a crackdown against tax evasion as Apple, Google and other giant multinationals are being called on the carpet for devising complex tax structures that enable them to pay negligible amounts on profits worth billions by stashing them in places with lax regulations.

Among them, the Rhode Island-sized country wedged between Germany, France and Belgium is accused by its neighbors of offering a haven for tax evaders in the heart of Europe.

Luxembourg's oversized banking sector was a prime target at a special European Union summit in Brussels on Wednesday aimed at clamping down on tax dodges estimated to cost the bloc's crisis-racked economies $1.3 trillion a year.

"We're here to fight against evasion, and tax havens in particular," said French President Francois Holland. "We have to go after those who are cheating, so that honest taxpayers don't have to dig deeper into their pockets."

Hollande has been under particular pressure to crack down since the resignation of his budget minister Jerome Cahuzac amid revelations he stashed hundreds of thousands of dollars in secret Swiss accounts.

Other European countries and the United States have also been cranking up efforts to shut down bolt holes for tax evaders.

Faced with international arm-twisting, Luxembourg has agreed to end the banking secrecy that has helped turn the country's homonymous capital city into one of Europe's premier financial centers.

Prime Minister Jean-Claude Juncker says the country will automatically share information with other European Union nations about the bank details and interest earned by individual foreign depositors starting in 2015.

On Tuesday, Luxembourg said it had also reached a deal on bank information exchange with the United States.

"We are following a global movement," Juncker said. "Anybody who thinks we are caving in to French or German pressure does not understand the way our government works."

However, many Luxembourgers feel their country of 500,000 is being unfairly scapegoated by bigger powers.

"There has been evasion in the past and surely there is still evasion, but things are not black and white and they've been exaggerated by other countries,” says Patrice Pieretti, an economist at the University of Luxembourg.

Luxembourgers point out that they’re far from alone in offering competitive tax advantages to attract investment.

"There’s a lot of hypocrisy," Pieretti continued. "In the United States, you have some states, Delaware for sure but there are others, where I can hide my money and evade taxes without any problem."

Resentment over what’s seen as foreign bullying reflects a strong sense of pride among the citizens of a small country that has maintained its independence and distinct national identity throughout a troubled history with sometimes expansionist neighbors.

Luxembourg's survival has also relied on adaptability and a willingness to compromise. Its people think of themselves as consummate Europeans.

Seventy-two percent support the euro zone currency union, compared to an EU average of 53 percent, according to a poll published in December. Just 22 percent think Luxembourg would be better off outside the EU.

As well as their own Luxembourgish language, almost everyone speaks French and German, both official languages. Two-thirds also speak English.

Foreigners, most of them from other European countries, make up 43 percent of the population, a figure that rises to 67 percent in the capital city.

"Borders aren’t so important for us," says Marc Angel, a lawmaker with the Socialist Workers' Party, a junior partner in a coalition led by the center-right premier Juncker.

"We're don't have any fears of loosing our identity," Angel added in an interview. "We are a small country, but a dynamic country in the heart of Europe and most of all a very European country that realizes it wouldn't have had that development it had today without Europe."

Luxembourg's wealth was first built on iron and steel. When the industry peaked in 1974, the tiny state was producing almost as much steel as India and Brazil.

Although the world's largest steel maker ArcelorMittal continues to maintain its corporate headquarters in an imposing 1920s palace in downtown Luxembourg, steel production these days represents just 2 percent of GDP, down from 30 percent in the early 'seventies.

The government developed the financial industry to replace steel as the country's economy mainstay. Banking now accounts for a quarter of GDP in the world's second-largest fund administration center, after the United States.

Officials hotly refute the mounting international criticism, insisting the banking sector has strict rules against money laundering and has gone a long way to crack down on tax evasion. The days when German dentists and Belgian storeowners took the train to Luxembourg to deposit suitcases packed with cash are long gone, they insist.

Angel points out that the economy is already reducing its reliance on the financial sector through fast-growing information-communications and life-sciences industries. The country is home to the RTL media giant — which runs 53 TV channels across Europe — the world-leading satellite company SES, and Cargolux, Europe’s biggest all-cargo airline.

Luxembourg has also moved to turn itself into an e-commerce hub by attracting the European headquarters of Amazon, Paypal, iTunes and Skype — partly through low sales taxes that have brought yet more international criticism.

Although few in the grand duchy fear a Cypriot-style meltdown despite banking's inflated influence on the economy, the collapse of Cyprus' financial sector in March has increased pressure on Luxembourg to diversify.

Still, it has no plans to give up its banking advantages without a fight.

During Wednesday's summit, Juncker made clear that his country would apply new EU information-exchange rules to its banks only if Switzerland and other non-EU banking rivals agree to similar regulations.

Luxembourg has also warned it may join Britain in taking legal action against an EU plan to introduce a tax on financial transactions that would "mean the death of the European investment fund industry," according to Anouk Agnes, director of strategy and communications at the Association of the Luxembourg Fund Industry.

Whatever the challenges, veteran center-right lawmaker Norbert Haupert is confident Luxembourg's flexibility will enable Europe's richest country to remain pretty much what it is.

"There could be some negative changes ahead for the financial sector, but I think they've already prepared for that," he says. "With our know-how, the energy of our companies and the willingness of us lawmakers to help the sector, I think we'll be able to limit the damage."